Jenny Wecker, who raised money on Kickstarter to produce a stylish diaper bag, below, didn’t anticipate the the tax implications.

Jenny Wecker, who raised money on Kickstarter to produce a stylish diaper bag, below, didn’t anticipate the the tax implications.

Photo: COLE WILSON / New York Times

Image 2 of 3

Materials for a diaper bag designed by Jenny Wecker, who didnâ€™t anticipate the tax implications when she raised money on Kickstarter for more than 300 orders, in Salt Lake City, March 18, 2015. Campaigns on sites like Kickstarter can help a small business get started. But the complex income and sales tax reckoning can come as a surprise. (Cole Wilson/The New York Times) less

Materials for a diaper bag designed by Jenny Wecker, who didnâ€™t anticipate the tax implications when she raised money on Kickstarter for more than 300 orders, in Salt Lake City, March 18, 2015. Campaigns ... more

Photo: COLE WILSON / New York Times

Image 3 of 3

Entrepreneurs can get tripped up by taxes on crowdfunded projects

1 / 3

Back to Gallery

Jenny Wecker, a fledgling Salt Lake City entrepreneur, had a hit on her hands at the end of December: She collected $42,000 in pledges from the crowdfunding site Kickstarter for more than 300 orders of a stylish diaper bag she had designed.

The project came together quickly after her husband persuaded her to test a broader market for the bags, which she had been making by hand and marketing on Instagram.

“We didn’t even think twice about how the taxes would affect us,” she said.

But thousands of people like Wecker who ran successful crowdfunding campaigns last year no longer have the luxury of ignoring the tax consequences of their efforts. In the eyes of the Internal Revenue Service, they are small-business owners — and the taxman wants his share of their proceeds.

Sites like Kickstarter and Indiegogo make it fairly easy for creative entrepreneurs to propose new ventures and, if the ideas appeal to a big enough audience, attract capital to finance them. But once the cash changes hands, those who may never have run a business before are thrown straight into the weeds of operating one.

You'll Never Believe All of The Things You Can Do With a Mason Jar and a Fruit CupCountryLiving

Flying Drone Clown Haunts NeighborhoodPopularMechanics

The tax issues can be complex and confusing.

“People come to me after they get a 1099-K, usually in a panic reaction,” said Abraham Finberg, a tax accountant in Los Angeles.

Reporting sales

The form he refers to is the one that tips the IRS off to crowdfunding campaigns. Introduced three years ago, the document is intended to help tax authorities track online sales that small businesses often do not report. Companies like Amazon, PayPal and Stripe that process payments for crowdfunding sites are required to send the form to any customer for whom they register 200 annual transactions totaling at least $20,000. (Only 15 percent of the 22,252 projects financed on Kickstarter last year passed that threshold. Smaller projects are also taxable, but they create less of a paper trail.)

Wecker’s tax liability was complicated by a timing issue that ensnares many novices: She ran her campaign in December but was not able to place her overseas production order for the bags until January, which left her with a big chunk of business income in one year and the major expenses to offset it in the next.

That can leave entrepreneurs struggling to pay a larger-than-expected tax bill. Accountants say there are a few ways to handle it, but each involves nuances that are best sorted through with professional help. Businesses with certain corporate structures may be able to adopt a fiscal year that aligns their income and expenses. Others might opt to use an accounting method known as accrual, which can let sellers delay recognizing the income until customers receive the goods.

One of the most overlooked complications is sales tax. The rules governing it vary by location, and trying to comply with them can be a brain-bending exercise in untangling financial minutiae.

In many states, merchants have to remit the tax on anything they sell to an in-state buyer. Do digital goods like e-books count? In most states yes, but a few, like North Dakota, specifically exempt them. What about intangibles, like the Skype chats artists sometimes offer their backers? Some states tax them just like retail goods; some exclude them. In others, the rules are still being written.

Matthew Amster-Burton, a Seattle author who raised $8,000 on Kickstarter for his culinary travel memoir “Pretty Good Number One,” offered a book club chat for those who pledged $125. He asked Washington state’s revenue department for a ruling on whether he could classify some of that money as sales of a service, which would have reduced his tax burden. Its verdict: No. He owed sales tax on everything he collected from in-state buyers, and to calculate it, he had to ask all of his project’s backers for their ZIP codes — information Kickstarter does not provide — and figure out the correct rate for each Washington resident’s city or county.

“I’m really annoyed at how difficult Kickstarter and my state make it to do the right thing,” he said. “I think I ended up owing less than $100 in tax on my campaign, but it took at least a full week of work to figure it all out.”

Trying to improve

A Kickstarter spokesman, Justin Kazmark, said the site is trying to improve its tools for helping creators calculate the costs of fulfilling their projects, including expenses like shipping and taxes.

Because project creators have no way to know in advance how many of their backers will be local, even those who plan for sales tax are stuck trying to guess how they should price it into their rewards. Most do not even try.

“If we have local backers, we just have to take the hit. You play the odds there,” said Jarom Olson, the supply-chain manager for Sewell Development Corp., a Utah company that has run several Kickstarter campaigns for new products in its line of gadget accessories.

There are areas that even tax experts disagree about how to handle. The big one is whether, in some circumstances, crowdfunding pledges can be treated as gifts.

On its website, the IRS defines a gift as money a donor gives “without expecting to receive something of at least equal value in return.” Most of the rewards offered on crowdfunding sites do not pass that test. For a $115 contribution to Wecker’s campaign, for example, backers will receive a bag that she plans to price at $130.

High-priced rewards

But many crowdfunding campaigns incorporate a handful of higher-priced rewards for fans with deep pockets.

If you pledge $250 in return for having your name painted on a food truck, could part of your pledge be considered a donation?

The IRS, which has not issued guidance on the subject, declined to comment.

“This is like the next bitcoin,” said Kelly Phillips Erb, a Pennsylvania lawyer who focuses on tax law. “At some point, the IRS will have to weigh in.”

Wecker, who usually does her own taxes with TurboTax, hired an accountant this year. She and her husband both have full-time jobs outside her design business and were expecting a sizable refund. Instead, they came out about even — which she counts as a relief.

Since her Kickstarter campaign ended, she has received a steady stream of inquiries about her bags, and has several potential retail and wholesale clients lined up. The small bit of money she lost on the crowdfunding project was worth it to get the business off the ground, she said.

“This is part of being a beginner,” she said. “You make some mistakes, and try not to make them twice.”